Friday, June 09, 2006

Gary Shilling: Predicts a 20% decline

Well, the storm finally arrived. Yesterday at the height of the sell-off, volatility surged to over 20, but later in the session as the market recovered, volatility simmered down to close at 18.36.

One of the earliest tip-offs to market weakness was the weakness in housing. Housing seems to be where it's happening. Roughly half of America's families own stocks or funds or ETFs -- but 69% of US families own their own homes. Last year 40% of all home sales were for second homes, which I must say is pretty wild -- and rather shocking.

Now inventories of new or existing homes for sale are rising -- or I should say surging. The figure is close to 4 million new or existing homes now on the market. So far, the explosion in homes for sale has been due mainly to a release of fresh properties rather than a major slowdown in sales. My guess is that the slowdown is coming.

Gary Shilling said he thinks that nationwide, the median price of homes will fall 20% before the housing decline is over. Gary writes, "Even a 20% price decline will be devastating for many home owners. On average, those with mortgages have a 37% equity in their abodes. Of those who borrowed or refinanced in 2005, 29% have zero or negative equity."

Writing in the current issue of Forbes magazine, Gary says, "A house-price collapse will be far worse than the 2000-2002 bear market on Wall Street and will bring a serious global recession. . . The resulting unemployment will kill many sub-prime borrower's ability to make payments. . .home appliance makers and do-it-yourself retailers are also vulnerable."

Could Gary be right? Phila. Housing Index: The spectacular plunge out of this triangle is obviously telling us something about the home-building industry. I'd call this plunge a warning -- "a red flag" for the housing industry.

If housing does top out, it's going to depress home-owners, and as I said above, 69% of US families are home owners. Taking it from there, I believe we could see consumers cut back on their spending and even start to save. And that probably explains at least part of the huge declines in stock markets around the world, particularly the Asian markets. What I think is happening is that the Asian markets see a decline in the US housing market and therefore a coming decline in US consumer spending. Remember, it's been spending by US consumers that has fired the worldwide economic boom.

Now a few words about yesterday's market action. There was a dramatic intra-day recovery from yesterday's lows, breadth was down, Transports were down and we had over 200 new lows vs.only 27 new highs. Volume was huge, 3.46 billion shares (of course, S&P futures were expiring).

But after the close I received the Lowry statistics on the day's action, and I must say I was surprised. The Buying Power Index (demand) dropped to a new multi-year low while the Selling Pressure Index (supply) rose 8 points to a new multi-year high. In other words, the internal character of the stock market continued to deteriorate even while the market was recovering from its lows.


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